Like in the first year calculation, we will use a time factor for the number of months the asset was in use but multiply it by its carrying value at the start of the period instead of its cost. Since the assets will be used throughout the year, there is no need to reduce the depreciation expense, which is why we use a time factor of 1 in the depreciation schedule (see example below). This is because, unlike the straight-line method, the depreciation expense under the double-declining method is not charged evenly over the asset’s useful life. However, note that eventually, we must switch from using the double declining method of depreciation in order for the salvage value assumption to be met.
Assume that you’ve purchased a $100,000 asset that will be worth $10,000 at the end of its useful life. The theory is that certain assets experience most of their usage, and lose most of their value, shortly after being acquired rather than evenly over a longer period of time. DDB is ideal for assets that very rapidly lose their values or quickly become obsolete. This may be true with certain computer equipment, mobile devices, and other high-tech items, which are generally useful earlier on but become less so as newer models are brought to market. The commercial or economic life of an asset is termed as the useful life of an asset. Now, for estimating the useful life of an asset, its physical life is not taken into consideration.
Once you have the straight-line depreciation rate, you multiply it by 2 to get the DDB depreciation rate. This is the rate that you will use to calculate the depreciation expense for each year of the asset’s useful life. Companies have several options for depreciating the value of assets over time, in accordance with GAAP. Most companies use a single depreciation methodology for all of their assets. Thus, the methods used in calculating depreciation are typically industry-specific.
Here’s the depreciation schedule for calculating the double-declining depreciation expense and the asset’s net book value for each accounting period. In case of any confusion, you can refer to the step by step explanation of the process below. Hence, our calculation of the depreciation expense in Year 5 – the final year of our fixed asset’s useful life – differs from the prior periods.
You’ll also need to take into account how each year’s depreciation affects your cash flow. To calculate the depreciation expense of subsequent periods, we need to apply the depreciation rate to the laptop’s carrying value at the start of each accounting period of its life. To calculate the depreciation expense for the first year, we need to apply the rate of depreciation (50%) to the cost of the asset ($2000) and multiply the answer with the time factor (3/12).
As a hypothetical example, suppose a business purchased a $30,000 delivery truck, which was expected to last for 10 years. Under the straight-line depreciation method, the company would deduct $2,700 per year for 10 years–that is, $30,000 minus $3,000, divided by 10. It is the estimated net realizable value of an asset at the end of its useful life.
Work with your accountant to be sure you’re recording the correct depreciation for your tax return. One often-overlooked benefit of properly recognizing depreciation in your financial statements is that the calculation can help you plan for and manage your business’s cash requirements. This is especially helpful if you want to pay cash for future assets rather than take out a business loan to acquire them. Double declining balance is useful for assets, such as vehicles, where there is a greater loss in value upfront.
This is because an asset might be in good physical condition after a few years but it may not be used for production purposes. So, as an asset moves towards the end of its useful life, a guide to accounting for a nonprofit organization the benefit gained out of such an asset declines. That is to say, highest amount of depreciation is allocated in the first year since no amount of capital has been recovered till then.
In the United States, accountants must adhere to generally accepted accounting principles (GAAP) in calculating and reporting depreciation on financial statements. GAAP is a set of rules that includes the details, complexities, and legalities of business and corporate accounting. GAAP guidelines highlight several separate, allowable methods of depreciation that accounting professionals may use. If you file estimated quarterly taxes, you’re required to predict your income each year. Since the double declining balance method has you writing off a different amount each year, you may find yourself crunching more numbers to get the right amount.
While some accounting software applications have fixed asset and depreciation management capability, you’ll likely have to manually record a depreciation journal entry into your software application. Thus, the amount of depreciation is calculated by simply dividing the difference of original cost or book value of the fixed asset and the salvage value by useful life of the asset. This graph is deduced after plotting an equal amount of depreciation for each accounting period over the useful life of the asset. Because you’ve taken the time to determine the useful life of your equipment for depreciation purposes, you can make an educated assumption about when the business will need to purchase new equipment. The earlier you can start planning for that purchase — perhaps by setting aside cash each month in a business savings account — the easier it will be to replace the equipment when the time comes. You calculate it based on the difference between your cost basis in the asset—purchase price plus extras like sales tax, shipping and handling charges, and installation costs—and its salvage value.
As you can see, the depreciation expense is higher in the early years of the machine’s useful life and lower in the later years. Here are four common methods of calculating annual depreciation expenses, along with when it’s best to use them. The four depreciation methods include straight-line, declining balance, sum-of-the-years’ digits, and units of production. To get a better grasp of double declining balance, spend a little time experimenting with this double declining balance calculator. It’s a good way to see the formula in action—and understand what kind of impact double declining depreciation might have on your finances.
But you can reduce that tax obligation by writing off more of the asset early on. As years go by and you deduct less of the asset’s value, you’ll also be making less income from the asset—so the two balance out. You get more money back in tax write-offs early on, which can help offset the cost of buying an asset. If you’ve taken out a loan or a line of credit, that could mean paying off a larger chunk of the debt earlier—reducing the amount you pay interest on for each period. Once the asset is valued on the company’s books at its salvage value, it is considered fully depreciated and cannot be depreciated any further. However, if the company later goes on to sell that asset for more than its value on the company’s books, it must pay taxes on the difference as a capital gain.
The DDB depreciation method is best applied to assets that quickly lose value in the first few years of ownership. This is most frequently the case for things like cars and other vehicles but may also apply to business assets like computers, mobile devices and other electronics. In the last year of an asset’s useful life, we make the asset’s net book value equal to its salvage or residual value. This is to ensure that we do not depreciate an asset below the amount we can recover by selling it. Depreciation in the year of disposal if the asset is sold before its final year of useful life is therefore equal to Carrying Value × Depreciation% × Time Factor.
Using the steps outlined above, let’s walk through an example of how to build a table that calculates the full depreciation schedule over the life of the asset. DDB depreciation is often used for assets that are expected to lose value more quickly in the early years of their useful life. For example, DDB depreciation may be used for computers, automobiles, and other equipment that becomes obsolete relatively quickly. However, it’s not as easy to calculate, and you must refigure your depreciation expense each period. For example, assume your business purchases a delivery vehicle for $25,000.
But before we delve further into the concept of accelerated depreciation, we’ll review some basic accounting terminology. The cost of the truck including taxes, title, license, and delivery is $28,000. Because of the high number of miles you expect to put on the truck, you estimate its useful life at five years. Remember, in straight line depreciation, salvage value is subtracted from the original cost.
Accelerated depreciation techniques charge a higher amount of depreciation in the earlier years of an asset’s life. One way of accelerating the depreciation expense is the double decline depreciation method. Certain fixed assets are most useful during their initial years and then wane in productivity over time, so the asset’s utility is consumed at a more rapid rate during the earlier phases of its useful life.